Aguilar wrote: ↑Mon Aug 15, 2022 8:43 pm
I was always told to avoid incurring capital gains in my brokerage. So you're saying I should just be prepared for it during big market downturns? I've never sold anything in my taxable account. Is there a Wiki article about selling in one's brokerage and planning ahead to deal with estimated tax payments, etc? That's what concerns me, having to sell in my brokerage and then having a hefty tax bill and underpayment penalties.
As a general rule, that's correct - you don't want to sell and incur gains in your taxable account when you don't need to - as that's basically just choosing to pay potentially
unnecessary taxes. There are some exceptions, such as if it's a fund you don't want to hold and/or don't believe in anymore, things like having a "concentrated position" (aka too many eggs in a single basket - such as in particular an individual stock).
But I think the advice retiredjg gave was more aligned with Tax Loss Harvesting. https://www.bogleheads.org/wiki/Tax_loss_harvesting
For example, let's say you buy $100k of VTSAX today - and tomorrow it drops 10% ($10k). You can sell at a loss and thus "harvest" that 10% loss ($10k) to offset future gains. Any loses offset dollar for dollar any gains - so the next $10k of gains you'd have would be tax-free. If you don't "use up" the $10k loss with gains, it can offset up to $3k of "ordinary" (think paycheck, interest, non-qualified dividends) income per tax year. Losses carry forward until completely used up.
So again, in a hypothetical that markets take a big drop - and you end up "outside" of your rebalancing bands - you could sell equities in taxable - potentially
"harvesting a loss" in the process. You'd use the funds to buy as many bonds as you need to be back within your rebalance bands. When stocks recover to the point of being outside your rebalancing bands, you could sell enough taxable bonds (potentially with some gains - but potentially less than the "losses" that you previously harvest - in other words with potentially $0 due in taxes) and rebuy stocks.
In theory - great plan! In reality - really depends on the timing and amount of your taxable purchases. I don't mean "timing" as in trying to "time the market" - that's a fool's errand... But I'll use myself to explain... As (I think) previously noted, I spend the first part of the year maxing out my tax-advantaged accounts with very little going into taxable, only once my tax-advantaged accounts are filled do I start buying in taxable again. I'm not yet to that point, meaning I haven't really made a sizable taxable purchase since late 2021. So, for me to harvest losses, I need a market loss big enough to wipe out the gains since December (or whenever my last taxable investment was). That has happened this year, and in times like March 2020, but it's not a "regular" occurrence - I think I went > 2 years without harvesting a loss from when I first learned about the concept. Let's say instead of my approach, I buy $1000 a month in taxable, every month. I'm more likely to have a loss to "harvest" as I'm buying more frequently, but even if the markets are down say 20% - that's only a $200 loss (and maybe some from the month prior, etc.). Personally, my threshold is a fund needs to have at least a $1000 loss to make it worth the effort (there's some complexity in finding and managing "TLH pairs", etc.). So I find I have few TLH opportunities in taxable - but YMMV...
However, think through the same scenario in your 401k. In a market crash, you'd need to sell bonds to buy stocks to maintain your AA. If your 401k is already bond heavy - you could sell them and buy stocks as needed in your 401k without tax impact. When markets recover, you can likely just reverse the trade (stocks for bonds) again without tax impact. Where you might struggle with a bond heavy 401k is when stocks are booming - and you need to sell stocks to buy bonds. If you don't have enough stocks in your 401k, you might be forced to sell in your taxable account - and thus incur the taxes as a result.
But I think that circles back to another point retiredjg gave:
retiredjg wrote: ↑Mon Aug 15, 2022 6:56 am
Do your rebalancing with new money going into the portfolio. Always add money to the asset class you have too little of.
With rare exceptions - namely large corrections like we've seen this year and in 2020 - this is exactly what I do as well. Whenever possible, I use new money to get things where I want, both at a macro level and within the accounts.
I have a spreadsheet that I use to track my portfolio (I use Excel - the Microsoft 365 version of which included financial data types - which automatically can pull in prices - so I just enter 100 shares of VTI and it stay's up-to-date with what that's worth). I use that to track my "current" AA, as well as my "target" AA, and to alert me if I'm outside of my rebalance bands (and if so, how much I need to rebalance). I also use it to track projected investments
for the year, so I can "see" where my projected year-end AA will be, and I adjust accordingly
For example, my target AA is 60/40 and my current AA is 63/37 - meaning "new" investments need to go to bonds. I have roughly $15k planned contributions to a Mega Backdoor Roth yet this year - which will stay in stocks (as I don't hold bonds in Roth). But the rest
of my contributions will go to bonds/fixed income. My year end projection (obviously affected by what the markets due between now and then) is I'll end up at 62/38. Next year I'll continue to do the same, use "new" money to nudge the AA where I want it.
So, to my example above (401k without enough stocks to rebalance during a market boom), if my "current" AA gets to 65% equities it would trigger a "rebalance" (against my target of 60%). Before doing so, I'll first look to see what my projected year-end AA would be if I put all "new" money into bonds, again with the exception of keeping Roth 100% stocks. If that's enough to return my AA to within my "range", then I don't do anything else (just keep nudging it back where I want). Only when it's clear that I don't have enough new money to get back to my target AA range will I actively rebalance.
Likewise, if you want to grow your equity position in your 401k, and you don't want to do an "exchange" to do so, just start directing "new" money in your 401k into equities until you get to the amount ($ or %) you want to hold there. That might mean putting an equal (or larger) amount of taxable investments into bonds to maintain your overall AA, but hopefully you get the idea...